Federal Offenses

Email this article

To*

Please enter your email address*

Subject*

Comments*

We the people of the United States have a hard time keeping our finances in order. Our corporations may practice the world’s most rigorous financial reporting (some recent debacles notwithstanding), but our government does not. Agencies with such lofty responsibilities as establishing justice, ensuring domestic tranquility, and providing for the common defense have a hard time even producing a financial statement. Those that do produce one often fail their audits.

All that was supposed to change starting in 1990, when President George H. W. Bush signed the Chief Financial Officers Act. The act mandated that 14 cabinet-level departments and 10 major agencies appoint CFOs and try to emulate publicly held corporations when it came to financial management. The act, and other financial reform legislation that followed, required those 24 agencies to produce annual, auditable financial statements.

Recommended Stories:

Today, a new President George Bush has inherited a mixed bag of pecuniary progress. Clearly, federal CFOs have made enormous strides, establishing a new level of accountability in government financial management. All 24 agencies covered by the CFO Act produce annual statements. While only 6 received unqualified opinions on their 1996 audits, that number had tripled to 18 by 2000 — the first year in which all 24 agencies submitted financial statements on time.

But those numbers don’t tell the whole story. Discount those agencies that were found by auditors to have major internal control weaknesses and those whose systems don’t comply with FFMIA (the Federal Financial Management Improvement Act of 1996, which set financial information systems standards), and the number of agencies passing muster drops from 18 back to 6, points out David M. Walker, comptroller general of the United States and head of the General Accounting Office (GAO). What’s more, “If you look at the 18 departments and agencies that did receive clean opinions on their [FY2000] financial statements,” says Walker, “a majority of those received that clean opinion only because they engaged in ‘heroic efforts’ — whereby they spent millions of dollars and thousands of person-hours…adjusting journal entries and reconstructing the books.”

That some agencies spend millions simply to cobble together passable statements is a major frustration for Walker, because it means they ignore underlying accounting problems that cost billions and undermine the public trust. For example, the President’s 2002 Management Agenda revealed that 13 programs alone were responsible for $20.7 billion in erroneous benefit and assistance payments. Walker points out that, as in private industry, the goal of financial reform isn’t the actual report; it’s “to make sure that responsible federal officials have access to timely, accurate, and useful financial information.”

Walker is also frustrated because, to date, the GAO has been unable to express an opinion on a consolidated annual report for the entire federal government since the first one was submitted four years ago. Nevertheless, he is confident that the government is on the right track. He cites the support of President Bush the younger, the first U.S. President with an MBA. Says Walker, “[He] has made it very clear that he wants to improve how government does business.” The four principals of the Joint Financial Management Improvement Program — Walker, Treasury Secretary Paul O’Neill, Office of Management and Budget (OMB) director Mitch Daniels, and Office of Personnel Management director Kay Coles James — have met three times since last August. Previously, the principals had not met for about 10 years.

Of course, it will take much more than meetings to overcome the obstacles to a clean, consolidated financial report. Inefficient or nonexistent processes and information systems, a dearth of qualified personnel — such problems, familiar to private-sector CFOs, are writ large in the federal government. Fixing them will be no small task. Even so, one can find hopeful signs of progress, as we did when we examined three agencies that run the gamut from fiscal morass (the Department of Defense) to star-crossed achiever (the National Aeronautics and Space Administration) to financial champion (the Social Security Administration).

Draining the Swamp: Department of Defense

By far the biggest swamp in federal financial management is the Department of Defense, which, says Walker, rates “an ‘A’ on effectiveness — by that I mean fighting and winning armed conflicts. But it gets a ‘D’ in economy, efficiency, and accountability.” Last year, Walker told Congress that “[t]he largest impediment to an [unqualified] opinion on the U.S. government’s consolidated financial statements is the DoD’s serious financial management problems.”

The DoD is the world’s mightiest and messiest conglomerate, with six major divisions — the Army, the Navy, the Air Force, the Marine Corps, the Office of the Secretary of Defense, and the Joint Chiefs of Staff — and 14 other defense agencies. Comparing it with a private-sector company is futile: its 2002 budget of $334 billion exceeds the annual revenues of the world’s largest company, Exxon-Mobil, by more than $100 billion. The department cuts checks each month to 3.4 million civilian and military employees, and it relies on thousands of outside contractors to build and maintain its weapons systems and facilities.

Not surprisingly, it has never produced a departmentwide auditable financial statement. At Secretary of Defense Donald Rumsfeld’s confirmation hearing in January 2001, Sen. Robert Byrd wondered, “How can we seriously consider a $50 billion increase in the Defense Department’s budget when the DoD’s own auditors say the department cannot account for $2.3 trillion in transactions?”

All that changed, of course, after September 11. “The congressional committees aren’t asking Rumsfeld those questions today,” says William Phillips, a partner with PricewaterhouseCoopers Consulting’s government consulting practice. Before September 11, Rumsfeld was expected to cut his budget; in January, Bush instead proposed to give the DoD an additional $48 billion in 2003 — at 15 percent, the largest budget increase for the Pentagon since 1981.

But officials insist that the war on terrorism makes financial management more important, not less. “Every dollar that is wasted translates into a bullet or a bomb or a weapons system that some [soldier] in Afghanistan needs right now,” says Dov S. Zakheim, Under Secretary of Defense (Comptroller) and CFO.

Today, he notes, the DoD loses “tens of millions just because we are late paying bills.”

Talk is cheap, adds Zakheim: “We are taking [financial reform] seriously.” So far, the department’s recent actions look encouraging. Zakheim demanded and got authority to centralize all financial management decisions. “All of a sudden the [Army, Navy, Marine Corps, and Air Force] financial management was ringing my phone off the hook because they realized they couldn’t do a thing without my say,” he recalls.

For the first time, the department’s Quadrennial Defense Review, issued three weeks after the terrorist attacks, emphasized the importance of improving financial systems. And shortly after Zakheim’s appointment, Congress gave the DoD $100 million to develop a financial information management systems architecture. “That is a pretty significant chunk of change,” he comments. “Congress believes we are serious.”

The DoD’s IT problems are serious (along with problems in seven other operations; see “Defense at Risk,” at the end of this article). With so many nonstandard financial processes and systems, “millions of transactions must be keyed and rekeyed into multiple systems,” according to a GAO report issued in January 2001. In fact, says Zakheim, there are actually 500 to 600 financial and feeder systems that require interfaces and translators, and thousands more that must also be addressed. He has issued a moratorium on the development of enterprise resource planning (ERP) systems throughout the DoD’s many departments.

But the DoD is not likely to have one ERP system, either. “I have no preconceived notions,” says Zakheim of the IT architecture study now being funded by part of that $100 million from Congress. “Maybe you cannot build one ERP. It may be a series of interlocking ERPs.” That’s OK with the GAO, since the overriding goal for government accounting systems is a single enterprise architecture, which “means that you have certain basic standards to which the systems must comply,” says Walker.

Zakheim says he has no illusions about how long it may take to get such a system up and running. “Small companies with $3 billion or $4 billion in revenue still take three to four years to get [an ERP system implemented],” he says. Financially speaking, Walker also notes that it will take the DoD “years to get where they need to be.” In the best-case scenario, says PwC Consulting’s Phillips, the DoD may produce an auditable financial statement within five years. “That does not mean they’ll get a clean audit opinion,” he adds. “That would take even longer.”

Phillips “may be right,” admits Zakheim. “My interest is in doing business in an efficient way, not to get some clean opinion by sidestepping or bamboozling the auditors.” In fact, the situation at the DoD is so bad that some insiders suggest abandoning any effort to get a clean audit opinion for at least three years, and spending the money instead on fixing the underlying problems. “I think that makes sense,” says Phillips, adding that such a move would require congressional approval. “The energy and resources that go into heroic efforts that fundamentally don’t change the situation are like putting lipstick on a pig.”

Zakheim disagrees, arguing that each effort is a learning experience. “We should try [to gain a clean opinion]. The statements are a symptom, not a cause.”

Some Systems Go: NASA

Indeed, other federal CFOs have managed to clean up financial statements even while struggling to make IT improvements. Before he stepped down in 2001, former NASA CFO Arnold Holz served for seven years under NASA administrator Daniel Goldin, whose controversial “better, cheaper, faster” mantra thrust the agency’s finances into the spotlight. (NASA has yet to name Holz’s successor.) Goldin’s goal was to supplant costly and ambitious missions with smaller, more frequent ones. The space agency’s budget declined from $14.6 billion in 1994 to $13.6 billion in 2000. However, Goldin’s success was marred when cost cutting led indirectly to the embarrassing disappearances of two Mars space probes. His parsimony was also badly undermined by the financially voracious — and politically charged — International Space Station.

When Holz joined the space agency in May 1994, Goldin handed him two tasks: get the agency’s financial statements in order, and clean up the financial systems needed to do so. At the time, NASA had never received a clean audit opinion, and its staff was still struggling to produce the 1993 financial statement.

“I wanted [the] staff to know they could do a good financial statement, so I held it up until we got it [almost] right,” recalls Holz. Finally submitted just before the close of the 1994 fiscal year, the statement still didn’t please the auditors. But, says Holz, “we were as close to right as we could be. I probably could have held it up later [and received a clean audit], but that would have been obscene.”

Although the first year required heroics, Holz was able to make financial reporting routine at the agency. NASA has received a clean audit opinion every year since. In 1999, it was one of only two agencies (the other was the SSA) to receive the first Certificate of Excellence issued by the Association of Government Accountants. “NASA,” says Holz, “had good fundamental policies and processes in place. What it lacked were comprehensive, integrated systems.”

Holz made do with some loose integration, but actually replacing the aging, fragmented IT systems proved more daunting. When Holz arrived at NASA, each of the space agency’s 10 sites had its own payroll system, and the financial systems were a mix of spreadsheets and general-ledger systems.

He immediately scrapped a project under way to develop a system in-house, and turned to a software system developed by KPMG. But today, he admits, “NASA is still using the old systems.” The KPMG software proved to be “a good accounting system, but it wasn’t ready to integrate with travel and asset management and HR.” It, too, was scrapped, at a cost of $131 million. Today, the space agency is working on a rollout of an SAP system.

NASA isn’t alone in that effort. “Many agencies are currently procuring new financial systems,” notes PwC’s Phillips. And just as Zakheim is trying to rein in uncoordinated IT efforts at the DoD, the GAO’s Walker would like to see the entire federal government show more technological discipline. “You cannot allow everybody to do their own thing,” he warns. “You’ll build a Tower of Babel.”

Unqualified Success: SSA

You won’t find a tower of babel at the Social Security Administration. Yes, it’s slowly running out of money. But from a reporting standpoint, the SSA is a paragon. “We are a financial institution,” says acting CFO Dale W. Sopper. “Public confidence in us must be at the highest level, so it is important that we communicate our financial condition to the public and to Congress — our board of directors.”

No agency does a better job of that. The SSA has received unqualified audit opinions for eight consecutive years. For the last five, it has also submitted its reports just two months after the September 30 close of the federal fiscal year and well before the March 1 statutory deadline. The SSA’s audited FY2001 report arrived at Congress on December 20, again the first to do so.

The CFO’s responsibilities at the SSA rival those of any top-investment-bank CFO. They include financial policy for just under $1.2 trillion in SSA trust funds, as well as a $7.5 billion administrative budget for its Washington, D.C., headquarters, 10 regional offices, and about 1,300 field offices nationwide. About the only corporate support function outside the CFO’s purview is the human resources department, which handles the agency’s 65,000 employees.

Unlike most federal CFOs, Sopper is not a political appointee. A 36-year career civil servant, he is in his second stint as interim CFO during a change in Administrations. Since 1990, his usual title has been assistant deputy commissioner for finance, assessment, and management, which, he says, normally puts him on the other side of “the highest level of interface between political appointees and the career civil service.”

The political appointment of CFOs by appointee commissioners doesn’t strike Sopper as unique to government. “Private-sector CFOs often come in with the new CEO,” he observes. What sets government apart from the business world is the senior executive service, or SES. “The job of the career civil service is to support the political leadership of the organization,” explains Sopper. “It requires perhaps some different sensitivities than one might see in the private sector.”

That’s also a potential problem. Federal CFOs are political appointees who typically serve for only two to three years, notes Walker, while “many of the challenges we’re dealing with take years to effectively address.” In the SSA’s case, of course, that’s not an issue. Sopper dutifully notes that the 2001 financial statement had full support from newly appointed commissioner JoAnn Barnhardt (who has yet to appoint a permanent CFO). But that’s not surprising; sworn in just two weeks before the statement was audited, she has every reason to preserve the agency’s sterling record.

Not all commissioners and CFOs are so lucky. “There’s no question that the typical CFO in the public sector has less power and influence than [CFOs] in the private sector,” says Walker. Likewise, the institutional knowledge and influence of the SES are enormous. “When the political folks advocate change that the institution isn’t comfortable with,” says PwC’s Phillips, “there’s a chance to simply wait them out until there is new leadership.”

That was fine with Holz, who theoretically had power over the budget, but didn’t see a need to meddle with the numbers. The CFO Act is relatively new to agencies used to viewing the budget as the center of power, he notes. “A lot of agencies aren’t even sure how to react to the CFO,” he says. “The CFO is in a leadership position. He’s not actually punching the books.”

“Most [federal] CFOs still do not have the prestige and power that the CFO of a Fortune 50 company would have,” says Phillips. “But at agencies where they are making significant progress, they are now perceived as business advisers — just the way a CFO at Ford [Motor Co.] would be perceived.”

Indeed, beyond pure financial numbers, CFOs also are responsible for measuring agency performance — a federal balanced scorecard of sorts. Sopper notes that the SSA’s 2001 financial statement report also includes the performance metrics required by the 1994 Government Performance and Results Act (GPRA), the second year that the SSA has combined all of its statutory reporting requirements in a single document. “As Congress considers how to allocate the resources it has, it needs to know what is likely to be the return,” says Sopper.

Other agencies are likely to follow the SSA’s lead. In January, OMB announced that future funding for all federal agencies would depend on how well they met their stated performance goals. Noting that the GPRA “has been virtually ignored,” OMB director Daniels told the House Budget Committee in February that President Bush was shifting funding to those programs that set clear targets and used hard data to prove they were met. “The days when programs float along year after year spending taxpayer dollars [without ever] showing reasonable results or return must give way to an era of accountable government,” said Daniels.

Will the federal government ever get its financial house in order? David Walker thinks so. The comptroller general fully expects to see a clean, consolidated report before his term — at 15 years, the longest in Washington — expires. After all, he says, “I’ve got 12 years left.”

Tim Reason is a staff writer at CFO.

Clean Opinions

How the federal entities covered by the CFO Act fared with auditors, 1996-2000.

A Received clean opinionB Unaudited, or did not receive clean opinion

Agency

1996

1997

1998

1999

2000

U.S. Department of Agriculture

B

B

B

B

B

Commerce Dept.

B

B

B

A

A

Defense Dept.

B

B

B

B

B

Education Dept.

B

A

B

B

B

Energy Dept.

A

A

B

A

A

Health and Human Services Dept.

B

B

B

A

A

Housing and Urban Development Dept.

B

B

A

B

A

Interior Dept.

B

A

A

A

A

Justice Dept.

B

B

B

B

B

Labor Dept.

B

A

A

A

A

State Dept.

B

A

A

A

A

Transportation Dept.

B

B

B

A

B

Treasury Dept.

B

B

B

B

A

Veterans Affairs Dept.

B

B

B

A

A

Agency for International Development

B

B

B

B

B

Environmental Protection Agency

B

A

A

B

A

Federal Emergency Management Agency

B

B

A

A

A

General Services Administration

A

A

A

A

A

National Aeronautics and Space Administration

A

A

A

A

A

Nuclear Regulatory Commission

A

A

A

A

A

National Science Foundation

B

B

A

A

A

Office of Personnel Management

B

B

B

B

A

Small Business Administration

A

A

A

A

A

Social Security Administration

A

A

A

A

A

Source: General Accounting Office

Defense at Risk

Department of Defense operations deemed “high risk” by the General Accounting Office because of either their vulnerability to waste, fraud, abuse, and mismanagement or major challenges associated with their economy, efficiency, or effectiveness:

Strategic planning

Human capital

Financial operations

Information technology

Weapons systems acquisition

Contract management

Support infrastructure

Logistics support

Source: GAO

A Few Good Men and Women

If you think finding finance talent is tough in the private sector, try recruiting accountants for government work. Since 1993, the government has reduced its workforce by 324,580 employees through hiring freezes and across-the-board reductions. Consequently, the average age of a government worker has risen, from 42 in 1990 to 46 today. “A significant percentage of the government’s workforce is going to be eligible to retire in the next several years,” notes U.S. comptroller general and head of the GAO David M. Walker. By 2010, 71 percent of government workers will be eligible to retire.

The difficulty in attracting finance talent, says Dov S. Zakheim, Under Secretary of Defense and CFO of the Department of Defense, is yet another reason why financial management reform is so important. Get government to act more like business, he believes, and talent will flow more freely between the private and public sectors. Today, business school graduates avoid government service because the skills they learn there aren’t relevant to the business world, says Zakheim, and instead of building a career, “you just end up as a bitter bureaucrat by the time you are 45.” —T.R.

Appreciating Depreciation

For the past decade, radically different (and still evolving) accounting standards have presented another challenge for federal agencies. The Federal Accounting Standards Advisory Board (FASAB) has been rewriting federal government accounting standards since it was established in 1990. In 1996, the board issued a complete set of basic accounting standards, which were recognized as GAAP by the American Institute of Certified Public Accountants in 1999.

“Across the federal government, agencies must take budgetary accounting and encumbrance accounting and move it all into the income statement and balance-sheet accounting that we have in the private sector,” says William Phillips, a partner with PricewaterhouseCoopers Consulting’s government consulting practice. “Historically, depreciation wasn’t important. An agency would build a $200 million building out of cash in a single budget year.”

Changing that mindset has been tough, even for the standard-setters. At NASA, former CFO Arnold Holz discovered that the original FASAB standard on property, plant, and equipment mysteriously exempted weapons systems and space hardware from the balance sheet. “From the point of view of a CFO, I thought that was ludicrous,” he says. Not only were the costs of its satellites known, but NASA also had engineering estimates on how long they could be expected to operate. “Why not capitalize them and amortize them over their useful life?” he asked. FASAB removed the space-hardware exception, but not the weapons-system exception.

Department of Defense CFO and Under Secretary of Defense Dov Zakheim was quick to echo Holz’s objections. “For years, this department resisted having its assets depreciated,” says Zakheim. “You can’t do a capital budget if you don’t know what your assets are.” When Zakheim told FASAB to do away with exceptions for DoD assets, he says, “the reaction was total disbelief.” —T.R.